Alibaba: Buybacks Will Change Stock Trajectory

Alibaba: Buybacks Will Change Stock Trajectory

maybefalse/iStock Unreleased via Getty Images Alibaba (NYSE: BABA ) is increasing the pace of its buybacks which have hit $10 billion on an annualized basis in the last three quarters of the current fiscal. This should be enough to reduce the outstanding shares by 5% to 6% annually which will also increase the EPS for the company. The ecommerce market in China is getting saturated. Alibaba is also facing immense regulatory pressure. Hence, instead of increasing market share or adding new services, we could see Alibaba return more money to shareholders through buybacks and dividends. Tencent ( OTCPK:TCEHY ) has already announced that it will be giving a massive one-time dividend to shareholders after divesting its stake in JD ( JD ).

Slower ecommerce growth in China could be a positive trend for Alibaba as it can use resources to expand internationally and other high-margin businesses like cloud. Alibaba could also double down on buybacks like Apple ( AAPL ). Over the past five years, Apple has been able to reduce its share count by over 30%. Share buybacks and dividends could become one of the key options for Alibaba as it sees slower growth in China. Expanding buybacks

Alibaba had already announced that it could undertake buybacks and had set aside billions of dollars. However, regulatory challenges and the massive decline in stock price would have provided an opportunity for the management to use its buyback funds. Alibaba Filings Figure 1: Share repurchases made in the latest quarters. Source: Company Filings

In the latest quarter, Alibaba bought back stock worth $1.4 billion. Over the last three quarters, a total of $7.7 billion worth of stock has been repurchased which is equal to an annualized rate of over $10 billion. Alibaba filings Figure 2: Alibaba Cloud has started showing positive margins. Source: Company Filings

Alibaba Cloud has started showing positive margins. The company is still in the expansion phase of its cloud business. Future growth in this business should give the company better economies of scale and help it to improve the margins. Amazon’s AWS has consistently shown a margin of close to 30%. Hence, there is a massive margin gap between Alibaba Cloud and AWS. Alibaba could reduce the revenue and margin gap with AWS in the next few quarters which should provide the company with an additional income source. This could be diverted towards buybacks to reduce the outstanding stock.

The management has lots of options to invest the resources in different business segments. However, investing in buybacks shows that it is not trying to aggressively gain market share within China and it thinks that the current stock is massively undervalued. Slower growth in China

Alibaba’s customer management business in “commerce” segment declined by 1% YoY. There has been a big jump in revenue due to the acquisition of Sun Art. However, if we discount the impact of this acquisition, the overall commerce growth in China is quite low. Alibaba Filings Figure 3: Slower commerce growth in China. Source: Company Filings

One of the reasons behind the slower growth could be the regulatory pressure that is preventing Alibaba from aggressively increasing its market share. In order to prevent any antitrust issue in the future, Alibaba could slow the pace of investments in the core commerce business. This will free up lots of resources which the company can invest in cloud business, international expansion, or digital media segment.

Alibaba could also follow Tencent’s path. In the past few quarters, Tencent has reduced investments in China and has also divested its stake in JD to prevent any antitrust issues. The company will distribute these shares to shareholders which would have a value of over $16 billion. Shareholder return

Alibaba is considered to be a growth stock and investors don’t expect buybacks or dividends. Amazon ( AMZN ) has never undertaken these measures. However, Alibaba could have a lot of spare resources if it puts on the brakes in the core commerce segment of China. The cloud business is already showing positive margins which might increase further as the company achieves economies of scale in this business. Hence, the only option for investment would be in international business which might not require the level of free cash flow generated by the company.

In this situation, Alibaba could be in a similar position compared to what Apple had a few years back. Apple was producing lots of free cash flow annually and had massive cash. Hence, the management decided to start a massive buyback program and give […]

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